Accounting for Raw Materials - Chapter 2

## Chapter 2 - Accounting for Raw Materials ### Raw Materials Inventory System #### Perpetual Inventory System - The perpetual inventory system requires maintaining stock cards for each type of material to show the summary of inflow, outflow, and balance of raw materials. - The movement of raw ma...

## Chapter 2 - Accounting for Raw Materials ### Raw Materials Inventory System #### Perpetual Inventory System - The perpetual inventory system requires maintaining stock cards for each type of material to show the summary of inflow, outflow, and balance of raw materials. - The movement of raw materials is summarized in a Raw Materials Inventory account, making it easier to determine the amount of inventory on hand at any given time. - This system necessitates the physical counting of raw materials at least once a year to confirm the balance reflected in the material stock cards and in the Raw Materials Inventory account. #### Periodic Inventory System - There is no need to maintain a stock card for the raw materials. - A physical count is made periodically which is near the end of a period to determine the units on hand. - The latest purchases are normally left in the warehouse. - The raw materials issued are the residual amount after deducting the physical inventory counted from goods available for sale. ### Basic Transactions Associated with Raw Materials #### (Perpetual Inventory System) ##### Purchase of Raw Materials - The cost of raw materials is debited to Raw Materials Inventory when the materials are received. - This account is debited for the invoice cost and freight costs chargeable to the purchaser. - It is credited for purchase discounts taken and purchase returns and allowances. - Upon receipt of the materials, the inventory clerk updates the inventory ledger card or stock card. - After all postings have been made, the balance in the Raw Materials Inventory account (ledger balance) should equal the sum of the balances in the raw materials ledger card. **Entry to record the purchase of raw materials:** ``` Raw Materials Inventory 000 Accounts payable or Cash 000 ``` **An entry in the material stock card is required.** If the materials purchased are for a specific job, the cost is charged directly to a work in process account. ``` Work in process 000 Accounts payable/Cash 000 ``` ##### Freight In or Transportation Costs - Freight in or transportation cost of raw materials purchased is a product cost. - Under the perpetual inventory system, the freight is charged to the Raw Materials account. - In this case, the total costs of raw materials purchased include the invoice price plus the freight. - In recording the purchase in the inventory stock card, the freight cost is proportionately assigned to each material, using different basis like units purchased, invoice costs, or weighted costs resulting in an adjustment in the unit cost. - The cost of raw materials issued already includes part of the freight costs. - On the other hand, if the system of accounting for inventories is the periodic inventory, the freight cost is charged to a separate account, **Freight In**, and record only the invoice cost in the Purchases account. - When raw materials are issued, a separate calculation is made to apportion the freight in costs to issued and unissued raw materials. - The amount allocated to the raw materials is debited to Work in Process account together with the invoice price. **Illustration. Allocation of freight costs** Dolby Manufacturing Company purchased the following raw materials from X Company, terms 2/10, n/30. | Raw Materials | Units | Weight(u/c)| Price | Total | |---|---|---|---|---| | A | 1,000 | 1.5 | P5.00 | P5,000 | | B | 1,000 | 2.0 | 20.00 | 20,000 | | Total | | | | P25,000 | Paid P800 for transportation costs of the above purchases. Required: Determine the amount to be charged to Raw Materials Inventory account under perpetual and periodic inventory systems if freight is allocated to the units purchased based on: (a) invoice costs; (b) units purchased; (c) weighted units **(a) Freight is allocated based on invoice costs** **Perpetual Inventory System** ``` Raw Materials 25,800 Accounts Payable 25,000 Cash 800 ``` **Periodic Inventory System** ``` Purchases 25,000 Acct Payable 25,000 Freight in 800 Cash 800 ``` **(b) Freight is allocated based on units purchased.** | Material | Units | Allocation | |---|---|---| | A | 1,000 | Mat A (50% x 800) | | B | 1,000 | Mat B (50% x 800) | | Total | 2,000 | Total freight | **(c) Freight is allocated based on weighted units** | Material | Weighs | Allocation | |---|---|---| | A | 1,500 | Mat A 1,500/3,500*800 | | B | 2,000 | Mat B 2,000/3,500*800 | | Total | 3,500 | Total freight | ##### Issuance of Raw Materials Raw materials are transferred from the warehouse to the production department. A material requisition form completed by the production supervisor is the basis of the raw material inventory clerk for the release of the materials. A copy of the material requisition form goes to the cost accounting department as basis for recording the issuance and for entering the direct material cost to the individual jobs in process. **Entry to record the issuance:** ``` Work in process (direct materials) 000 Manufacturing overhead (indirect materials) 000 Raw materials Inventory 000 ``` **Materials Requisition Form. This form serves as the basis of recording the issuance of raw materials.** | MRF No. | Job No. to be charged| Date | Department | |---|---|---|---| | | | | | | | | | | **Items** | **Quantity** | **Units** | **Unit Cost** | **Amount** | **Requested by:** **Received by:** **Approved by:** **Released by:** ##### Returns of excess raw materials to the storeroom ``` Raw Materials Inventory 000 Work in process-DM 000 Manufacturing Overhead 000 ``` ##### Returns of raw materials to the supplier ``` Raw Materials Inventory 000 Accounts Payable or Cash 000 ``` ### Scrap Materials Scrap materials are defective materials or leftover materials in production. Scrap includes fillings or excessive trimmings of materials after the manufacturing operations; defective materials not suitable for manufacturing operations; and broken parts of materials as a result of employee error or machine breakdown that causes the product in a poor quality condition. If these materials can be traced to a specific job, the market value of the scrap materials is debited to Scrap Materials and credited to Work in Process. If the scrap recovered cannot be traced to a specific job, the market value is credited to Miscellaneous Revenue instead of Work in Process. #### Methods of accounting for scrap materials 1. Reduction of the cost of specific products which were produced 2. Reduction of the cost of production in general 3. Recognizing as other revenue for the market value of the scrap 4. Recognizing as sales revenue for the market value of the scrap ### Inventory Valuation Methods The most common methods of valuing raw materials are: - FIFO (First In, First Out) - Average cost - Simple average - Weighted average - Moving average #### FIFO Under the FIFO method, raw materials inventory is reported at the latest cost while the Cost of Raw Materials used is reported at the earliest cost. In a period of rising prices, this method will yield a higher gross profit because the cost of goods sold is assigned lower cost. #### Simple Average To determine the simple average unit cost (SAUC), divide the total unit costs by the total number of items. Under perpetual inventory system, compute for SAUC every time raw materials are issued because there is a need to remove the cost of issued raw materials from the inventory. However, under periodic inventory system, the SAUC is computed only at the end of the period by summing the unit costs divide by the number of items. #### Weighted Average The weighted average unit cost (WAUC) is computed by dividing the total costs of RM available by the total units available. Under perpetual inventory system, there is a need to calculate the WAUC every time raw materials are issued to determine the amount to be remove from the inventory. However, under periodic inventory system, the WAUC is computed only at the end of the period as follows: Weighted Average Unit Cost (WAUC) = Cost of Raw Materials available for use/RM available in units In all methods, raw materials available is equal to the beginning inventory plus purchases during the period. However, the cost of raw materials used and raw materials inventory differ on what method is used in the valuation. **Illustration: Costing of raw materials inventory using different methods of valuation under perpetual inventory system and periodic inventory system** Below are transactions regarding one of the raw materials of Moonlight Company: | Date | | Units | Unit Cost | |---|---|---|---| | July 1 | Balance | 800 | P98 | | 2 | Purchased | 1,000 | 100 | | 3 | Issued | 1000 | | | 5 | Purchased | 1,500 | 105 | | 7 | Purchased | 500 | 110 | | 8 | Issued | 1,200 | | | 10 | Purchased | 500 | 108 | | 15 | Issued | 800 | | | 20 | Purchased | 2,000 | 105 | **Required:** 1. Post the transactions to Raw Materials Ledger card (Perpetual Inventory System) using (a) FIFO, (b) simple average, (c) weighted average 2. compute the amount of Raw Materials Inventory and Raw Materials used under periodic inventory system under FIFO, Simple Average and Weighted Average **1. a. FIFO- perpetual** | Item: Raw Materials A | | | | | | | | | |---|---|---|---|---|---|---|---|---| | | | | | | | | | | | | Date | Units | Unit Cost | Total Cost | | Units | Unit Cost | Total Cost | | Units | Unit Cost | Total Cost | | Inventory, July | | 800 | 98 | P78,400 | Jul 1 | 800 | 98 | 78,400 | Jul 1 | 800 | | | | Purchases: | | | | | 2 | 1,000 | 100 | 100,000 | 2 | 1,000 | | | | July 2 | | | | | | | | | | 800 | 98 | 78,400 | | | | | | | | | | | | 1,000 | 100 | 100,000 | | 5 | | 1,500 | 105 | 157,500 | 5 | 800 | | | | 800 | 98 | 78,400 | | | | | | | | | | | | 1,500 | 105 | 157,500 | | 7 | | 500 | 110 | 55,000 | 7 | 1,500 | | | | 500 | 110 | 55,000 | | | | | | | | | | | | 800 | 100 | 80,000 | | | | | | | | | | | | 1,500 | 105 | 157,500 | | | | | | | | | | | | 500 | 110 | 55,000 | | 10 | | 500 | 108 | 54,000 | 10 | 1,100 | 105 | 115,500 | | 400 | 105 | 42,000 | | | | | | | | | | | | 500 | 110 | 55,000 | | | | | | | | | | | | 1,100 | 105 | 115,500 | | | | | | | | | | | | 500 | 108 | 54,000 | | | | | | | | | | | | 500 | 110 | 55,000 | | | | | | | | | | | | 1,100 | 105 | 115,500 | | | | | | | | | | | | 500 | 108 | 54,000 | | 15 | | 800 | 105 | 84,000 | 15 | 800 | 105 | 84,000 | | 800 | 105 | 84,000 | | | | | | | | | | | | 1,100 | 105 | 115,500 | | | | | | | | | | | | 500 | 108 | 54,000 | | | | | | | | | | | | 800 | 105 | 84,000 | | 20 | | 1,100 | 105 | 115,500 | 20 | 100 | 108 | 10,800 | | 800 | 105 | 84,000 | | | | | | | | | | | | 400 | 108 | 43,200 | | | | | | | | | | | | 800 | 105 | 84,000 | **Total costs of RM issued** | | | | | | | | |---|---|---|---|---|---| | | 108 | 43,200 | | 800 | 105 | 84,000 | | Total | | | | | | 94,800 | Under FIFO method of costing, stocks acquired earlier are issued first to production. Take note that when raw materials are issued, the oldest stock of raw materials are issued first. **The computation of raw materials available for use, raw materials used and raw materials inventory is as follows:** | Item: Raw Materials A | | | | | | | | |---|---|---|---|---|---|---|---| | | | | | | | | | | | Date | | Units | | Unit Cost | | Total Costs | | | Inventory, July | | | 800 | | 98 | | P78,400 | | Purchases: | | | | | | | | | July 2 | | | | | | | | | 5 | | | | | | | | | 7 | | | | | | | | | 10 | | | | | | | | | 15 | | | | | | | | | 20 | | | | | | | | | RM available | | | 5,100 | | | | P528,900 | | RM issued | | | 4,200 | | | | P434,100 | | RM inventory | | | 900 | | | | P94,800 | **FIFO - perpetual & periodic are the same** | RM available | RM issued | RM inventory | |---|---|---| | 528,900 | 434,100 | 94,800 | **1. b. Simple average - perpetual** | Item: Raw Materials A | | | | | |---|---|---|---|---| | | | | | | | Date | Units | Unit Cost | Total Costs | SAUC | Total Cost | | Jul 1 | 800 | 98 | 78,400 | 99 | 79,400 | | 2 | 1,000 | 100 | 100,000 | 99 | 99,000 | | | 1,800 | 99 | 178,400 | | | 5 | 1,500 | 105 | 157,500 | 103.25 | 168,000 | | | 2,300 | 103.25 | 236,900 | | | 7 | 500 | 110 | 55,000 | 104.21 | 123,900 | | | 2,800 | 104.21 | 291,900 | | | 8 | 1,200 | | 123,900 | 104.21 | 125,052 | | | 1,600 | 104.21 | 168,000 | | | 10 | 500 | 108 | 54,000 | 105.082 | 166,738 | | | 2,100 | 105.082 | 222,000 | | | 15 | 800 | 105 | 84,000 | 105.082 | 84,000 | | | 2,900 | 105.082 | 306,000 | | | 20 | 2,000 | 105.08 | 210,160 | 105.08 | 94,578 | | | 900 | 105.08 | 94,578 | | **SAUC=(98+100+105+110)/4 = 103.25** **WAUC=291,790/2,800 = 104.21** **Under the perpetual inventory system, there is a need to calculate the cost of raw materials used, that's why simple average unit cost is computed every time raw materials are issued.** **Simple average - Periodic** Simple average unit cost is computed only at the end of the period under periodic inventory system. The SAUC is: (98+100+105+110+108+105)/6 = 104.33 | RM available | RM issued | RM inventory | |---|---|---| | 5,100 | 4,200 @ 104.33 | 900 | | 528,900 | 438,186 | 90,714 | | RM available | RM issued | RM inventory | |---|---|---| | 528,900 | 431,567 | 97,333 | **1. c. Weighted average method - perpetual** | Item: Raw Materials A | | | | | | | | |---|---|---|---|---|---|---|---| | | | | | | | | | | Date | Units | Unit Cost | Total Costs | | Units | WAUC | Total Cost | | | Jul 1 | 800 | 98 | 78,400 | | 800 | 98 | 78,400 | | 2 | 1,000 | 100 | 100,000 | | 1,800 | 99.11 | 178,400 | | | | | | | | | | | 3 | 1,000 | 99.11 | 99,110 | | 800 | 99.11 | 79,290 | | 5 | 1,500 | 105 | 157,500 | | 2,300 | 99.11 | 236,790 | | | | | | | | | | | 7 | 500 | 110 | 55,000 | | 2,800 | 104.21 | 291,790 | | | | | | | | | | | 8 | 1,200 | 104.21 | 125,052 | | 1,600 | 104.21 | 166,738 | | | | | | | | | | | 10 | 500 | 108 | 54,000 | | 2,100 | 104.21 | 220,738 | | 15 | 800 | 105 | 84,000 | | 2,900 | 105.082 | 304,738 | | | | | | | | | | | 20 | 2,000 | 105.08 | 210,160 | | 900 | 105.08 | 94,578 | **WAUC=178,400/1,800 = 99.11** **WAUC=291,790/2,800 = 104.21** **WAUC=304,738/2,900 = 105.082** **The computation of raw materials available for use, raw materials used and raw materials inventory is as follows:** | Units | | uc | | Total | |---|---|---|---|---| | Inventory, July | 800 | | 98 | | P78,400 | | Purchases: | | | | | | | July 2 | 1,000 | | 100 | | 100,000 | | 5 | 1,500 | | 105 | | 157,500 | | 7 | 500 | | 110 | | 55,000 | | 10 | 500 | | 108 | | 54,000 | | 15 | 800 | | 105 | | 84,000 | | Raw Materials available | 5,100 | | | | P528,900 | | Less: Issuance | | | | | | | July 3 | (1,000) | | 99.11 | | (P99,110) | | 8 | (1,200) | | 104.21 | | (125,052) | | 20 | (2,000) | | 105.08 | | (210,160) | | Raw Materials issued | | | (4,200) | | (P434,322) | | Raw Materials Inventory | | | 900 | | P94,578 | **Under periodic inventory system, there is no need to maintain a stock card for the raw materials. A physical count is made periodically which is near the end of the period to determine the units on hand.** ==End of OCR for page 5==